Sequestration: CNBC Explains

Sequestration is a fiscal policy procedure adopted by Congress to deal with the federal budget deficit. In simple terms, it's a way of forcing cutbacks in spending on government programs and then using that money to pay down the deficit.

The deficit refers to the difference, in a single year, between government receipts and spending.

Sequestration — the massive automatic spending cuts to U.S. defense and non-defense spending — is now in play having reached the March 1 deadline and talks to prevent it have so far failed.

Sequestration is important because it was part of the 'fiscal cliff' — avoided with a last minute deal — that would have eliminated the Bush-era tax cuts while implementing across-the-board cuts on certain federal programs and defense spending.

As of January 2013, Congress was unable to reach agreement on spending cuts, and the sequestration was delayed until March 1, 2013 as part of the American Taxpayer Relief Act of 2012 -- the deal that prevented the full 'fiscal cliff ' from happening.

The delay until March was to give lawmakers more time to agree on which programs would actually receive spending cuts. The specter of harmful across-the-board cuts to defense and non-defense programs — as part of the fiscal cliff — was intended to drive both sides to compromise. But so far, no deal.

The deficit reduction sequester is designed to enforce savings of $1.2 trillion through 2021. For 2013 and each year after that, it means roughly a $85 billion cut in 2013 alone in defense and non-defense spending.

Based on the calculations, spending on government programs will be reduced by $984 billion over that nine-year period. The remaining amount of savings -- to get to the $1.2 trillion -- will come from reduced debt services costs, like the amount due on the debt interest.

Which programs will be hit by sequestration? Here's a quick look at some of them

Defense: Biggest loser

It's estimated that the DoD would have to cut 11 percent of its budget each year.

The DoD would be able to shift funds "to ensure war fighting and critical military readiness capabilities were not degraded," but non-deployed units, equipment and facilities, and research and development efforts would all take a hit.

The cuts would affect all sorts of programs, according to the DoD, including research and development as well as cause a reduction in the number of government contracts awarded.

About 108,000 defense civilian employees could lose their jobs in 2013 if sequestration takes effect, according to a report by the Center for Strategic and Budgetary Assessments.

The Transportation Security Administration (TSA), the agency that handles airport security, would be forced to reduce its workforce, including a seven-day furlough for screeners, which would increase passenger wait times at most of the nation's airports by more than an hour.

Also adding to the burden would be furloughs in the workforce of the Federal Aviation Administration, which means fewer air traffic controllers on the job. That means reduced air travel, longer delays for passengers. As much as 10 percent of the FAA's workforce of 40,000 would be on furlough on any given day.

It could also mean higher ticket prices for passengers as the weeks went by, as the FAA depends on a trust fund for its money and that funding comes from taxes on air traffic. So, as fewer goods and people travel, the amount in the fund goes down and it will need to be replenished.

Here again, furloughs for IRS workers up to ten days or more would come into play, just as the 2012 tax filing season begins. IRS call centers are expected to close or have long hold times. There will be fewer enforcement agents available to investigate fraud claims, which could result in a greater number of identity theft cases unsolved--one of the biggest issues facing IRS agents and tax payers.

And the government would lose money, increasing the debt. Each dollar invested in enforcement actions returns $4 in additional revenue to the Treasury. Cutting investment in enforcement will lead directly to an increase in the deficit

Like other government programs the Food Safety and Inspection Service would have to furlough thousands of workers. The FSIS regulates meats, poultry and egg products and inspects all food products coming into the U.S. from abroad. Plants are not allowed to operate without inspectors so the plants would be forced to close early or shut down, slowing the food supply to grocery stores and restaurants. Also, workers at the food plants as well as grocery stores and restaurants will face layoffs themselves.

A January memo from the National Park Service states that nearly $110 million would have to be immediately eliminated from the park services' $2.2 billion budget .Among the parks facing the most severe cuts are Yellowstone, Yosemite, the National Mall and Memorial Park in Washington, D.C., the Grand Canyon, the Everglades, the Great Smoky Mountains and Mount Rushmore.

As it currently stands, the biggest non-defense programs that face cutbacks are: the Department of Education which will be hit with automatic across-the-board cuts ranging from 7.8 percent in 2013 to 5.5 percent in 2021.

The Department of Agriculture is another program where certain government subsidies to farmers and other agricultural programs could face cuts. Farm support programs comprise the largest component of the remaining mandatory spending subject to full sequestration, according to the U.S. House of Representatives Budget Committee.

Other areas of non-defense cuts are still to be determined. The program cuts and amounts could change as lawmakers talk, but the goal of $1.2 trillion in cuts has to be reached.

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Which programs are exempt from sequestration?

The list is long which may make it difficult to reach an agreement between Republicans and Democrats. Among the programs currently exempt from being targeted for cutbacks are Social Security, Medicaid, Supplemental Nutrition Assistance Program (formerly called food stamps), Supplemental Security Income, and Temporary Assistance for Needy Families.

Also exempt are Pell grants, which are student loans, spending from most transportation trust funds (which support highways, mass transit, and airports), and all programs administered by the Department of Veterans Affairs. President Obama also exercised his discretion to exempt military personnel accounts for 2013.

Most of Medicare payments to providers are subject to sequestration but limited to a 2 percent reduction. (Some of Medicare is exempt, and a small portion is subject to the full sequester.)

Also on the list of exemptions: compensation of the current President -- as well as pensions of former presidents -- and payments to widows and heirs of deceased members of Congress.

Other exemptions include advances to the Unemployment Trust Fund and Other Funds, payment of Vietnam and USS Pueblo prisoner-of-war claims within the Salaries and Expenses, and the Vaccine Injury Compensation Program Trust Fund.

Even though sequestration does not cut funding for Social Security, it does mean that the Social Security Administration would have to furlough workers for ten days or more. That would likely delay the processing of retirement and disability claims and a smaller staff would mean offices would be closed early or permanently, resulting in longer wait times for service. Social Security checks are still expected to be mailed.

Is sequestration a new idea?

No. Sequestration first appeared in the Gramm-Rudman-Hollings Deficit Reduction Act of 1985.

The Reduction Act of 1985 aimed at cutting the budget deficit, which at the time was the largest in history, and provided for automatic spending cuts — sequesters — if the deficit exceeded a set of fixed deficit targets.

The act did provide, for a year, a balanced federal budget, meaning the government didn't spend more than the revenues it took in. But it failed to permanently keep budget deficits from growing. And in fact sequester did not really happen in 1985 as Congress and then President Ronald Reagan kept pushing back due dates on cuts to keep the government going.

What's the bottom line on the current sequestration?

While the money diverted might help reduce the government deficit, there are fears that drastic cuts in government spending could slow down U.S. economic growth.

A report by The Office of Budget and Management, which helps the President set the budget, says that sequestration results might differ based on changes in law and ongoing legal, budgetary, and technical analysis.

But the report leaves no question that the sequestration would be "deeply destructive to national security, domestic investments, and core government functions."

The Congressional Budget Office, which is non-partisan, says that non-defense funding in 2021 would represent 2.8 percent of gross domestic product (GDP), whereas such funding has averaged 4.1 percent of GDP during the past decade. A number of public advocacy groups have argued that major cuts to programs included under non-defense discretionary spending would harm low-income families.

As for lawmakers, Democrats are fighting to keep a strong limit on any cuts to non-defense spending, while Republicans would prefer cuts to come from the so called entitlements of Social Security and Medicare, Medicaid, and limiting the cuts on defense.

Since no agreement has been reached as of Friday March 1, the president is obligated to start sending out furlough notices to government workers on Monday, March 4.